'?l 


The  Essential  Features  of  Securities 


Byron  V/,  Holt, 
and 
Arthur  Williams,  Jr.,  A.B, 


^>i. 


".'-? '- 


The  Essential  Features 

of 
Securities 


By 
BYRON  W.  HOLT,  A.  B. 

Stock  Market  Analyst,     Manager,  Investment  Department, 

Coodbody  &  Co. 

Editor,  Moody's  Magazine,  1905-08.     Manager,  Investment 

Department,  Warren  W.  Irwin  &  Co.,  1908-17. 

And 

ARTHUR  WILLIAMS,  Jr.,  A,  B. 

Formerly  Statistician,  Goodbody  &  Co. 
Statistician,  Bankers  Trust  Co. 


AMERICAN  INSTITUTE  OF  FINANCE 


The  Essential  Features 
•      of 
Securities 


By 
BYRON  W.  HOLT,  A.  B. 

Stock  Market  Analyst.     Manager,  Investment  Department, 

Coodbody  &  Co. 

Editor,  Moody's  Magazine,  1905-08.     Manager,  Investment 

Department,  Warren  W.  Irwin  &  Co.,  1908-17. 

And 

ARTHUR  WILLIAMS,  Jr.,  A.  B. 

Formerly  Statistician,  Goodbody  &  Co. 
Statistician,  Bankers  Trust  Co. 


AMERICAN  INSTITUTE  OF  FINANCE 
BOSTON 


OUR 
"COMPLETE   EDUCATIONAL   COURSE" 
IN  THE  SCIENCE  OF 
MAKING   MONEY   MAKE   MORE   MONEY 

This  list  is  arranged  in  the  order  of  proper  reading.  The 
books  are  accompanied  by  a  series  of  test  questions,  key  prob- 
lems and  analyses  outlines,  enabling  the  student  to  apply  the 
knowledge  acquired  to  immediate  stock  market  and  investment 
conditions. 


1 .  Developing  Financial  Skill 

2.  Forces  Which  Make  Prices 

3.  Manipulation  and  Market 

Leadership 

4.  Handling  a  Brokerage  Ac- 

count 

5.  Market  Information 

6.  The  Essential  Features  of 

Securities 

7.  The   Value  of  a  Railroad 

Security 

8.  Industrial  Securities 

9.  Oil  Securities 

10.  Mining  Securities 


1 1 .  Investment  Securities 

12.  Business  Cycles 

13.  Measuring   and   Forecasting 

General    Business    Condi- 
tions 

14.  The  Technical  Position  of  the 

Market 

15.  Money  and  Credit 

16.  Business  Profits 

17.  Launching  a  New  Enterprise 

18.  Securing  Capital  for  Estab- 

lished Enterprise 

19.  Internal  Financial   Manage- 

ment 

20.  Search  for  Bargains 


Copyright,  1922,  by 
American  Institute  of  Finance 


/r7f 


c^ 


TABLE  OF  CONTENTS 


V 


Chapter  I.     Knowledge  Before  Purchase  Page 

What  Our  Problem  Is 5 

Pursuing  Sound  Methods 5 

The  Personal  Equation 6 

Questions  We  Must  Answer           7 

Chapter  II.     Annual  Fluctuation 

Returns  Afforded 8 

Swing  in  Proportion  to  Price 8 

Nature  of  the  Undertaking 9 

Undertakings  Classified 10 

Underlying  Influences 11 

The  Corporation's  Financial  Structure 11 

What  Annual  Fluctuations  Are 13 

Chapter  III.     Manipulative  Activity 

Extent  of  Manipulation 14 

Speculative  Flavor 14 

"Inside  Control" 16 

Stocks  Cited 17 

Chapter  IV.     Marketability- 
Markets  19 

Consolidated  Stock  Exchange 20 

The  Curb  Market 20 

Listed  Securities 22 

Over-the-Counter  Market 22 

Making  the  Over-the-Counter  Market 23 

Bids  and  Offers 24 

Chief  Object  Sought 25 

Other  Over-the-Counter  Markets 25 

Functions  of  the  Market .  26 

Sales  Activity 26 

Classification 27 

Market  Quotations 27 

Market  Essentials 28 


447459 


Contents 


Chapter  V.     Statistical  Summary  Page 

Factors  Studied 30 

Annual  Fluctuation 30 

Manipulative  Activity 30 

Volume  of  Transactions 30 

Closeness  of  Market 30 

Classification  of  Common  Stocks 30 

Conditions  Change 32 

Chapter  VI.     Provisions  Under  Which  Issued 

Conditions  of  Issue 34 

Par  Value ." 35 

Control 37 

Chapter  VII.     Priority  of  Claims 

Right  to  Assets  and  Earnings 39 

The  Value  of  a  Security 41 

Key  Problem 44 

Test  Questions 

Answers  to  Questions 


CHAPTER   I 

KNOWLEDGE   BEFORE   PURCHASE 

"Sound  judgment  is  usually  the  fruit  of  persistent  study 
from  the  ground  up  and  from  every  angle  of  the  proposition^ 
— T.  CoLMAN  Du  Pont,  Financier  and  Business  Executive. 

What  Our  Problem  Is 

There  are  available  for  purchase  or  sale  securities  of  the 
widest  possible  variety,  issued  by  countless  corporations,  munici- 
palities, states,  nations,  etc.  Merely  to  learn  the  names  of  all 
of  them  represents  a  quite  impossible  task. 

Equally  varied  with  respect  to  their  individual  requirements 
are  the  purchasers  and  sellers  of  these  securities.  What  is  one 
man's  meat  is  another  man's  poison,  holds  no  more  true  of  food 
than  it  does  of  securities. 

The  variety  which  prevails  in  the  security  market,  never- 
theless, represents  a  distinct  opportunity  to  the  person  trained 
to  discriminate,  though  it  is  a  source  of  confusion  to  others.  In 
either  case,  since  mistakes  once  made  cannot  as  a  rule  be  corrected 
without  loss,  the  only  safe  course  to  pursue  is  to  investigate  first. 

Pursuing  Sound  Methods 

The  most  persistent  seekers  of  information,  unfortunately, 
are  those  who  already  have  purchased  and  are  trying  to  find 
out  what  they  have  and  why  they  made  a  mistake.  This 
method  ought  not  to  prevail.  Investigate  first  is  the  common- 
sense  plan  in  taking  hold  of  any  new  project.  It  should  not 
be  departed  from  when  it  comes  to  dealing  in  securities. 

This  plan,  knowledge  before  purchase,  does  not  mean  that  a 
person  shall  necessarily  seek  out  the  most  gilt-edge  securities 
—  government    bonds,    prior    lien    railroad    bonds,    and    other 


6        Essential  Features   of  Securities 

ultra-conservative  issues  —  but  rather  that  he  shall  secure 
those  which  best  meet  his  own  requirements,  be  these  low-yield 
municipal  bonds  or,  possibly,  some  highly  fluctuating  common 
stock  of  a  company  close  to  bankruptcy.  There  are  persons  of 
a  most  varied  taste  when  it  comes  to  securities,  and  there  are 
securities  of  all  possible  variety  to  meet  these  different  tastes. 

A  person  can  be  suited  in  his  security  dealings  provided  he 
knows  what  he  wants  and  understands  the  various  issues  which 
are  open  to  him  for  selection. 

The  Personal  Equation 

It  will,  perhaps,  be  well  to  discuss  here  some  of  the  personal 
questions  that  each  one  must  ask  himself  in  regard  to  his  security 
dealings.  A  man  with  extended  responsibilities  cannot  afford 
to  use  the  same  proportion  of  his  funds  in  speculation  as  can  the 
man  with  few  reponsibilities.  Responsibilities  change  with 
age.  At  the  same  time  it  would  be  a  mistake  for  a  young  man 
between  twenty  and  thirty  to  feel  that  he  can  afford  to  use 
all  his  funds  in  speculation.  The  period  of  most  rapid  money 
making  is  between  the  ages  of  thirty  and  fifty.  If,  at  that 
time,  a  young  man  has  learned  the  fundamentals  of  specula- 
tion and  investment  and  how  to  apply  them,  he  can  conserva- 
tively use  a  greater  portion  of  his  funds  in  speculation  than  at 
any  other  period  of  his  life. 

Moreover,  the  entire  question  of  handling  one's  money  is 
complex.  For  example,  while  it  is  not  our  intention  or  place 
to  discuss  insurance,  the  man  who  has  given  his  family  protection 
through  insurance  can  certainly  afford  to  use  a  greater  portion 
of  his  funds  for  speculative  purposes  than  one  whose  family 
must  simply  depend  upon  the  surplus  funds  he  has  available. 

Many  economists  simply  suggest  an  even  division.  That  is, 
that  a  man  should  use  50%  of  his  funds  for  speculative  or  profit- 
making  purposes,  while  the  other  50%  should  be  used  only  for 
sound  investment  purposes.  This  does  not  take  into  considera- 
tion that  the  great  majority  of  people  can  only  gain  Financial 
Independence  through  systematic  building  up  of  their  surplus 


K 71  owledge  Before   Purchase  7 

funds.     Many  men  never  earn  sufficiently  so  that  simple  saving 
will  insure  Financial  Independence. 

The  result  is,  as  stated  above,  every  one  must  study  care- 
fully their  individual  situation.  The  man  with  few  responsi- 
bilities and  whose  responsibilities  are  well  protected  can  un- 
doubtedly afford  to  use  75%  of  his  surplus  funds  for  profit- 
making  purposes.  A  man,  however,  who  has  gone  into  the 
big  earning  period  of  life  without  much  family  protection  must 
naturally  be  much  more  conservative  in  the  use  of  his  funds, 
laying  aside  at  least  50%  in  sound  investment  securities,  the 
purpose  of  which  is  simply  to  conserve  capital  and  provide 
additional  income. 

Questions  We  Must  Answer 

The  exposition  of  the  problem  here  stated,  viz.,  knowledge  of 
securities  and  of  one's  own  requirements,  will  occupy  several  of 
the  Texts  which  follow.  The  present  Text  outlines  the  essential 
features  only,  thus  paving  the  way  for  these  more  detailed 
discussions. 

What  are  the  essential  features  of  securities?  Why  are  they 
important?  How  can  information  upon  them  be  secured?  The 
classification  which  follows  deals  with  these  questions. 


CHAPTER   II 
ANNUAL   FLUCTUATION 

Returns  Afforded 

There  are  many  variations  in  securities  with  respect  to  the 
percentage  of  yield,  the  certainty  of  securing  this  percentage 
consistently,  and  the  fluctuation  in  price.  Two  extremes  are 
cited,  between  which,  it  may  be  added,  is  the  broad  field  of 
speculative  investment. 

1.  Income. 

This  is  an  amount  secured  from  interest  and  dividends, 
in  which  the  element  of  certainty  receives  emphasis 
—  the  investor's  preference. 

2.  Profits. 

(  These  are  secured  by  taking  advantage  of  price  changes 

^\  —  the  speculator's  chief  aim. 

Swing  in  Proportion  to  Price 

Does  this  security,  which  we  now  assume  is  under  considera- 
tion, swing  much  or  little  during  the  course  of  a  year,  in  propor- 
tion to  its  price? 

The  price  change,  of  course,  represents  chance  to  profit. 
Thus,  to  the  purchaser  who  pays  in  full  for  his  securities,  the 
practical  question  is:  "Were  I  to  put  $10,000  into  this  security 
at  what  is  considered  an  attractive  figure,  will  it  likely  afford 
me  more  or  less  profit  than  other  securities  would?"  This 
way  of  putting  the  question  shows  the  importance  of  considering 
not  only  the  extent  of  swing  but  the  relation  of  this  swing  to 
the  price  of  the  security. 

Stock  A,  the  average  price  of  which  is  $50,  ranges  at  from 
$30  to  $70  or  $40  in  proportion  to  its  price  of  $50  —  80  per  cent. 
Stock  B,  the  average  price  of  which  is  $150,  ranges  from  $125  to 


Annual  Fluctuation  9 

$175,  or  $50  in  proportion  to  its  price  of  $150  —  33|  per  cent. 
Other  things  equal,  the  second  stock  bought  outright  affords 
less  opportunity  for  profit.  This  is  a  mighty  important  point. 
It  will  be  found,  when  we  come  to  a  study  of  individual  types 
of  securities,  that  there  are  many  fundamental  reasons  why  low- 
priced  issues  lend  themselves  most  readily  to  speculation.  This 
therefore  is  added  to  the  fact  that  their  swings  in  proportion  to 
price  are  greater. 

What  factors  should  be  watched  in  order  to  get  at  the  causes 
of  these  broad  swings  of  a  security? 

Nature  of  the  Undertaking 

The  first  to  merit  consideration  is  the  nature  of  the  under- 
taking itself  —  its  relative  soundness.  Does  this  corporation 
occupy  a  field  in  which  raw  materials,  labor,  equipment,  markets, 
etc.,  exist  in  such  condition  that  its  business  is  likely  to  prove 
normal,  or  do  contrary  conditions  prevail?  A  concrete  instance 
or  two  indicates  the  basic  importance  of  this  question. 

"The  failure  of  the  American  Bicycle  Company,"  says  Dr. 
A.  S.  Dewing,  "was  a  conspicuous  example  of  financial  distress 
consequent  on  the  collapse  of  an  entire  industry.  The  use  of 
bicycles  became  so  extended  from  1892  to  1895  that  it  could 
be  called  a  craze.  The  craze  reached  its  height  in  1897.  It  was 
maintained  with  but  slightly  lessened  intensity  to  1900,  when 
it  ceased  even  more  suddenly  than  it  had  arisen.  Public  taste, 
fickle  at  all  times,  and.  especially  fickle  regarding  its  amusements, 
became  suddenly  weary  of  its  plaything,  and  threw  it  aside. 
Millions  of  dollars  worth  of  property  invested  in  the  manu- 
facture of  bicycles  consequently  became  worthless."  Those 
who  bought  a  $1,000  underlying  bond  of  this  prominent  industrial 
consolidation  in  1899,  recommended  by  reputable  investment 
bankers  in  Boston  and  New  York  and  secured  by  actual  tangible 
property  costing  at  least  twice  the  total  bond  issue,  would  have 
had  in  1913  at  the  close  of  repeated  drastic  reorganizations  two 
shares  of  common  stock  worth  $1  each.  The  original  preferred 
and  common  stockholders  in  the  mean  time  had  been  wiped  out 
entirely. 


10      Essential  Features   of  Securities 

The  securities  of  brewing  and  distilling  companies,  unless  the 
properties  represented  by  them  turned  to  other  lines  of  business, 
have  been  recently  subjected  to  influences  somewhat  similar  to 
those  which  earlier  confronted  the  bicycle  combine. 

Again,  when  we  later  take  up  the  study  of  "Price  Cycles" 
we  will  see  how  many  public  utilities,  in  the  early  1900's  most 
attractive,  were  forced,  by  the  development  of  abnormal  condi- 
tions, to  undergo  drastic  reorganizations. 

There  were  other  consolidations  formed  the  same  time  as 
the  American  Bicycle  Company,  whose  management  was  no 
more  efficient  nor  financial  policy  more  wise,  which,  nevertheless, 
have  flourished.  Similarly,  while  the  brewers  and  distillers  are 
in  difficulty  today,  other  corporations,  solely  because  their 
undertaking  is  more  sound,  show  high  earning  power. 

Undertakings  Classified 

With  respect  to  their  inherent  soundness,  undertakings  may 
be  broadly  classified  into  these  groups: 

1.  Well  Standardized  Undertakings. 

Railways  and  public  utilities,  in  ordinary  times,  repre- 
sent this  class  of  undertaking.  Conditions  met  with 
in  their  construction,  operation,  and  financing,  while 
not  without  some  variation  and  risk,  have  been  so 
fully  investigated  and  standardized  that  the  sound- 
ness of  these  undertakings  can  be  determined  with  a 
relatively  high  degree  of  precision. 

2.  Highly  Speculative  Undertakings. 

Airplane  makers,  motion  picture  companies,  the  ex- 
ploiters of  new  mines  and  oil  fields,  and  the  producers 
of  novelties  and  fashion  goods,  represent  this  class 
of  undertaking,  although  numerous  companies  are 
already  far  past  the  experimental  stage  and  doubtless 
will,  in  due  time,  in  many  instances,  attain  a  sound 
basis.  Uncertainties  and  risk  to  a  high  degree 
characterize    corporations    in     this    class. 


A  nnual  Fluctuation  11 

3.  Moderately  Speculative  Undertakings. 

Between  corporations  of  class  one,  whose  earning  power 
is  relatively  stable,  and  corporations  of  class  two, 
whose  earning  power  fluctuates  widely,  lie  most  of 
the  companies  in  whose  securities  the  speculative 
investor  is  interested.  Though  there  exist  consider- 
able differences  among  the  members  of  this  third 
class,  some  closely  allied  to  the  well-standardized 
group  and  others  closely  allied  to  the  highly  specula- 
tive, they  comprise  most  of  the  prominent  industrials, 
the  carefully  managed  mining  properties,  and  several 
rails,  such  as  Reading  and  Southern  Pacific,  in  which 
special  attractions  exist. 

Underlying  Influences 

These  securities,  however,  are  all  subject  to  certain  under- 
lying influences,  to  which  it  is  convenient  to  apply  the  term 
"business  cycle."  When  the  cycle  has  a  downward  trend,  or 
when  business  conditions  move  into  a  period  of  prosperity. 
United  States  Steel,  Anaconda,  American  Telephone,  Pennsyl- 
vania, etc.,  normally  should  respond. 

Dr.  Hickernell  in  his  Text  on  "Business  Cycles,"  and  Dr. 
Persons  in  "Measuring  and  Forecasting  General  Business 
Conditions,"  describe  these  cyclical  movements  of  trade  and  of 
the  security  market  as  a  whole.  What  they  say  explains  very 
well  the  relations  between  underlying  influences  of  security 
market  fluctuations. 

The  Corporation's  Financial  Structure 

The  falling  off  of  earnings  during  a  depression,  however,  or 
their  increase  when  the  trend  of  a  cycle  is  upward,  does  not 
effect  identical  price  changes  in  securities,  particularly  in  com- 
mon stocks.  Much  depends  upon  the  corporation's  financial 
structure. 

Corporation  X  and  corporation  Y,  let  us  say,  are  both  capi- 
talized at  $50,000,000,  X's  being  all  common  stock  and  Y's 


12      Essential  Features   of  Securities 

$40,000,000  —  5  per  cent  bonds  and  $10,000,000  common  stock. 
Each  has  been  upon  the  average  paying  $5,000,000  to  its  security 
holders.  A  period  of  depression  ensues  which  renders  it  necessary 
to  drop  to  $2,500,000  after  which,  in  due  time,  payments  increase 
to  $7,500,000.  What  is  the  difference  in  the  effect  on  stock- 
holders? 


Average 

X 

Y 

Paid 

Fixed  charges 

Dividends 

Amount  on  stock 

$5,000,000 

0 

5,000,000 

10% 

$5,000,000 
2,000,000 
3,000,000 

30% 

Depression 

Paid 

Fixed  charges 

Dividends 

Amount  on  stock 

$2,500,000 

0 

2,500,000 

5% 

$2,500,000 

2,000,000 

500,000 

5% 

Prosperity 

Paid 

Fixed  charges 

Dividends 

$7,500,000 

0 

7,500,000 

$7,500,000 
2,000,000 
5,500,000 

Amount  on  stock  15%  55% 

The  amounts  paid  are  identical,  but  since  this  resulted  in 
X's  payments  to  stockholders  running  10  per  cent,  5  and  15; 
while  Y's  payments  ranged  from  30  to  5  per  cent  and  then 
mounted  to  55  per  cent,  there  would  be  a  marked  difference  in 
the  price  swings  of  these  two  stocks. 

The  financial  structure  of  corporations  is  to  receive  detailed 
treatment  later  in  Part  V;  hence  further  discussion  is  unneces- 
sary at  this  point.  It  is  clear,  however,  that  the  stocks  of 
corporation  X,  although  of  lower  average  dividends,  are  much 
safer,  while  Y's  form  a  much  more  attractive  speculative  medium. 


Annual  Fluctuation  13 

What  Annual  Fluctuations  Are 

What  has  been  said  so  far  indicates  in  a  general  way  the 
nature  of  the  problem  and  the  methods  of  its  solution.  But 
what  stocks  do  show  wide  fluctuations,  what  slight,  etc.?  With 
respect  to  the  extent  of  their  annual  fluctuation  in  proportion  to 
price,  all  the  common  stocks  listed  on  the  New  York  Stock 
Exchange  were  divided  into  these  four  groups: 

A.  Very  wide  C.     Moderate 

B.  Wide  D.     Slight 

The  method  followed  in  assigning  stocks  to  their  respective  groups  was 
statistical.*  The  stock's  range  for  the  year  is  the  difference  between  its 
high  and  low  during  that  period  and  its  average  price  is  half  way  between  its 
high  and  low.  These  price  ranges  were  computed  for  the  seven  years  1913, 
1914,  1915,  1916,  1917,  1918,  and  1919,  were  added  and  divided  by  seven  so  as 
to  give  the  average  range.  Similarly  the  average  price  for  the  seven  years  was 
found  by  adding  the  respective  highs  and  lows  and  dividing  by  ten.  Next, 
the  percentage  which  the  annual  range  bears  to  the  average  price  was  com- 
puted. Finally  the  one-quarter  of  the  stocks  which  showed  the  highest 
percentage  was  marked  A,  the  quarter  which  showed  the  lowest  percentage 
was  marked  D,  and  the  remaining  two  quarters  B  and  C  respectively.  This 
represents  considerable  statistical  work,  much  harder  than  it  would  have  been 
to  merely  guess  at  it;  but  the  results  are  unbiased  and  represent  with  some 
accuracy  what  fluctuations  have  occurred. 

Space  does  not  permit  the  inclusion  of  all  common  stocks, 
many  of  which  are  unimportant,  but  certain  of  the  better  known 
issues  will  be  specified.  International  Paper,  Distillers'  Securities 
(now  United  States  Food  Products)  and  United  States  Industrial 
Alcohol  are  typical  of  stocks,  the  annual  fluctuations  of  which 
run  high  in  relation  to  price;  certain  issues  fluctuate  an  amount 
equal  to,  or  more  than,  their  average  selling  price.  National 
Lead,  American  Radiator,  and  National  Biscuit  represent 
—  at  least  they  did  represent  at  the  time  these  calculations 
were  made  —  relatively  stable  issues,  in  which  the  annual 
changes  in  price  are  slight.  The  table  on  pages  30-32  cites  a 
number  of  the  more  important  issues. 


*The  authors  are  indebted  to  Miss  Grace  M.  Sullivan  for  performing  the  statistical  work 
described  here  and  on  succeeding  pages. 


CHAPTER    III 
MANIPULATIVE   ACTIVITY 

Extent  of  Manipulation 

Does  a  particular  stock  move  much  or  little  during  the 
secondary  swing? 

This  question  interests  the  speculator  primarily,  since  he 
tries  to  take  advantage  of  these  secondary  swings.  But  those 
devoting  themselves  to  speculative  investment  may  well  know 
something  of  this  factor,  because  of  its  connection  with  the 
primary  swing  and  the  fact  that  an  understanding  of  manipula- 
tive tactics  affords  one  a  clearer  insight  into  the  market's  action. 

There  is  considerable  difference  in  the  manipulative  activity 
of  securities.  The  gilt-edge  bond,  perhaps  at  the  time  of  issue, 
receives  "support,"  but  otherwise  is  never  manipulated,  whereas 
certain  mining  stocks  undergo  a  more  or  less  continuous  forcing 
process,  under  pool  direction. 

Speculative  Flavor 

Speculation  thrives  upon  uncertainty.  There  can  be  no  real 
speculation  upon  the  obvious  or  upon  known  facts.  Manipu- 
lation, needless  to  say,  has  to  do  with  speculative  and  semi- 
speculative  securities.  The  consequence  is  that  where  the  out- 
look for  a  security  is  changing  and  uncertain,  speculation 
accompanied  by  manipulative  activity  readily  develops. 

These  changing  and  uncertain  conditions  frequently  charac- 
terize a  newly  issued  security,  particularly  if  it  be  a  common 
stock.  Nobody  knows  what  the  outcome  of  many  newly 
launched  enterprises  will  be,  not  even  their  directors.  Later  on 
the  status  of  the  corporation  tends  to  become  established  and 
in  the  end,  if  all  goes  well,  investor  absorption  removes  from  the 
Street  what  was  once  its  football  of  speculation.     This  has  been 


Manipulative  Activity  15 

the  market  history  of  stocks  such  as  Lackawanna,  and  Jersey 
Central,  and  perhaps  to  a  relatively  high  degree  of  General 
Electric,  Pullman,  and  similar  issues. 

But,  it  must  be  remembered,  such  developments  are  not  neces- 
sarily permanent.  As  a  matter  of  fact,  it  will  be  shown  clearly 
in  the  Text,  "Industrial  Securities,"  that  the  majority  of  our 
industrial  companies  have  stages  of  growth  just  the  same  as  a 
human  being.  Many  of  them  reach  a  period  of  old  age  and 
declining  usefulness,  just  as  a  human  being.  The  net  result  of 
such  developments  is  that  many  industrial  stocks  of  companies 
founded  well  and  built  well  finally  enter  the  so-called  investment 
status,  later  to  return  to  the  speculative  status,  even  after  years 
of  steady  dividends. 

There  is  no  better  illustration  of  such  developments  than  the 
case  of  the  American  Sugar  Refining  Company.  For  twenty 
years  this  company  continued  7%  dividends  or  better  on  the 
common  stock.  It  came  to  be  considered  a  high-class  invest- 
ment. The  company  pointed  with  pride  in  its  annual  report 
to  the  fact  that  45%  of  its  stockholders  were  women  and  that 
the  average  holdings  of  its  shares  were  only  around  thirty  shares 
per  person.  Here  again,  however,  as  we  will  find  later,  viewed 
from  the  standpoint  of  the  astute  investor  or  speculator  this 
distribution  of  shares  of  the  American  Sugar  Refining  Company 
to  the  public  was  a  warning,  rather  than  a  condition  denoting 
security,  because  it  denoted  extended  distribution  by  insiders. 

This  much  we  should  consider  right  here.  Common  stocks 
which  have  been  removed  from  the  field  of  speculation  by  long 
continued  dividend  payments,  generally  offer  no  attraction  to  the 
person  who  is  using  his  money  for  profit-making  purposes.^  It 
should  be  remembered  that  these  issues  are  stocks  of  companies 
that  have  struggled  through  the  formative  period  and  have 
reached  maturity.  They  are  as  near  perfection  as  it  is  possible 
for  common  stocks  to  be.  Under  such  conditions,  is  it  not 
clear  that  the  chances  are  in  favor  of  poorer  developments 
rather  than  better  developments?  The  latter  are  practically 
impossible.  In  other  words,  the  scale  which  favors  a  new  well- 
managed  industrial  corporation  is  apt  to  turn  against  such  a 


16      Essejitial  Features   of  Securities 

corporation  after  it  has  been  fully  developed.     How  this  de- 
velops is  discussed  later  in  detail. 

There  are  numerous  rail  issues,  such  as  Delaware  &  Hudson 
and  St.  Paul  preferred,  which  had  disappeared  into  investors' 
strong  boxes  but  were  brought  once  more  into  something  of  a 
speculative  vogue  by  the  unusual  and  uncertain  conditions 
which  developed. 

"Inside  Control" 

There  are  some  issues  in  which  the  uncertainty  has  rather  the 
nature  of  a  market  mystery.  Consider  the  former  countless 
moves  and  countermoves  of  Reading,  based  on  the  possible  or 
"imminent"  or  "assured"  segregation  of  its  assets!  Reading 
certainly  had  valuable  assets  in  its  other-than-railroad  prop- 
erties. Now,  however,  these  have  been  segregated  and  this 
old  speculative  favorite  has  been  shorn  of  its  mystery;  so  that 
in  future,  its  market  fluctuations  will  probably  be  confined  to 
much  narrower  limits. 

Issues  not  well  distributed  to  the  public  and  of  relatively 
small  capitalization  lend  themselves  easily  to  "inside  control" 
in  the  market,  and  manipulative  activity  often  centers  in  them. 
Much  depends  upon  the  financial  strength  and  ethical  principles 
of  directors  and  other  "insiders"  whether  or  not  a  stock  will  be 
made  a  speculative  favorite.  Some  directors  manage  their 
corporations  with  a  strict  regard  to  the  rights  of  stockholders. 
There  have  been  officials  who  would  puncture  at  most  inoppor- 
tune times  the  carefully  woven  misrepresentations  of  manipu- 
lators, and,  if  that  did  not  suffice,  dump  upon  them  many  blocks 
of  shares  when  their  time  for  taking  profits  was  at  hand. 

At  the  same  time,  while  we  are  considering  "Inside  Control" 
we  must  also  remember  the  one  basic  fact  in  regard  to  stocks. 
It  is  this:  STOCKS  ARE  MADE  TO  SELL.  This  is  true 
regardless  of  whether  stocks  are  manipulated  flagrantly,  or 
whether  their  movements  are  moderate  and  largely  the  result 
of  underlying  conditions.  It  is  not  only  the  securities  of  com- 
panies who  have  officials  who  misrepresent  conditions  that  must 


Manipulative  Activity  17 

be  watched  carefully  from  this  standpoint,  but  also  the  securities 
of  our  strongest  companies. 

Let  us  again  use  the  illustration  of  American  Sugar.  When 
the  American  Sugar  Refining  Company  was  formed  it  was  natu- 
rally formed  by  a  relatively  small  number  of  men  who  had  a 
clear  and  broad  vision  of  the  future  of  the  sugar  refining  industry. 
Under  such  conditions  it  was  only  natural  that  they  should 
acquire  the  majority  of  the  common  stock  for  a  relatively  small 
expenditure  of  money.  The  major  portion  of  the  working  fund 
was  undoubtedly  supplied  by  the  preferred  stockholders.  As  the 
business  prospered  and  earnings  were  put  back  into  the  property 
the  value  of  the  common  stock  increased  materially  and  the  issue 
advanced  in  price,  at  the  same  time  paying  a  growing  dividend- 

Ultimately,  dividends  having  been  paid  for  a  number  of 
years,  the  stock  came  to  be  considered  an  attractive  investments 
Figuratively  speaking,  however,  there  was  only  one  source  from, 
which  the  stock  purchased  on  such  a  large  scale  by  small  investors, 
as  an  investment  could  come  —  that  was  from  those  who  had^ 
originally  formed  the  company  and  acquired  the  stock.  It: 
should  be  understood  that  it  might  pass  through  three  or  four 
different  hands  in  such  a  process  but  it  can  be  readily  seen  that 
the  above  statement  must  be  necessarily  true.  It  is,  therefore, 
only  natural  that  all  industrial  corporations  with  securities 
listed  on  the  exchange  should  be  operated  from  this  viewpoint, 
that  is,  the  ultimate  distribution  of  its  securities  on  a  large  scale 
to  the  public. 

Stocks  Cited 

This  "inside"  stock  then,  which  had  originally  been  acquired 
at  a  low  valuation,  was  finally  disposed  of  during  many  years 
of  prosperity,  at  high  prices.  Whether  or  not  the  "insiders" 
all  this  time  foresaw  the  change  in  the  company's  fortunes 
which  came  after  the  war,  it  is  impossible  to  state;  but  the  fact 
remains  that  Sugar  had  been  well  distributed  when  the  collapse 
in  its  price  came,  and  dividends  were  suspended,  in  1921. 

Our  point  of  view  here  is  the  same  as  considered  previously, 
viz.,  price  change  represents  a  chance  to  profit — with  the  difference 


18      Essential  Features   of  Securities 

that  here  the  secondary  swing  is  considered,  with  manipulation 
as  its  cause  emphasized.  The  extent  of  a  stock's  movement 
during  the  secondary  swing  has  been  taken  without  regard 
to  whether  the  issue  itself  is  high  or  low  in  price.  In  other 
words,  margin  trading  and  approximately  the  same  size  of  margin 
for  all  stocks  traded  in,  has  been  taken  as  the  basis  of  our  classi- 
fication of  manipulative  activity. 

With  respect  to  their  movements  in  the  secondary  swing, 
stocks  have  been  divided  into  these  four  groups: 

A.  Highly  manipulated  C.      Occasionally  manipulated 

B.  Frequently  manipulated      D.     Rarely,  if  ever,  manipulated 

These  groups  have  also  been  worked  out  statistically.  The  monthly 
range  of  stocks  was  taken  as  a  measure  of  their  manipulative  activity;  and 
the  extent  of  that  range,  that  is,  the  difference  between  the  high  and  the  low 
during  the  month,  was  computed  for  the  eighty-four  months  from  January, 
1913,  until  December,  1919.  The  one  quarter  of  these  common  stocks  listed 
on  the  New  York  Stock  Exchange  which  showed  the  highest  range  were 
marked  A,  the  quarter  with  the  lowest  range  D,  and  the  remaining  two 
quarters  B  and  C  respectively. 

The  seven  years,  1913-1919,  were  drawn  upon  for  data  rather  than 
other  years  which  might  have  been  chosen,  because  they  were  more  fully 
representative.  The  years  1913  and  1914  were,  for  the  most  part,  periods  of 
declining  prices  in  which  no  special  incentive  to  pool  activity  manifested  itself; 
1915  and  1916  were  periods  of  exciting  war  markets,  filled  with  manipulative 
activity.  The  years  1917-1919  were  upon  the  whole  both  bear  years  and 
bull  years. 

American  Smelting  and  Refining  was  a  moving  stock, 
during  the  years  included,  its  average  range  per  month  being 
•over  eight  points.  Crucible  Steel  exceeded  this,  its  monthly 
range  having  fallen  not  far  below  twenty  points.  General 
Motors  was  another  speculative  favorite,  often  manipulated. 
There  are,  on  the  other  hand,  issues,  whose  range  did  not  average 
a  full  point.     The  table  on  Pages  30-32  cites  a  number  of  issues. 

Note:  In  the  revision  of  this  text  to  bring  it  up  to  date,  it  has  been  con- 
sidered desirable  to  change  the  ratings  given  to  certain  stocks  in  the  tables 
referred  to,  in  order  to  render  these  tables  of  current  reference  value  in  re- 
lation to  the  changed  character  of  the  markets  for  such  stocks. 


CHAPTER   IV 
MARKETABILITY 

Markets 

Markets  are  a  natural  growth  resulting  from  the  needs  of 
buyers  and  sellers.  Their  locations  are  usually  matters  of  con- 
venience. A  great  business  enterprise,  as  at  present  conducted, 
is  too  large  to  be  owned  by  one  or  two  people ;  hence  corporations 
with  their  bonds  and  stocks,  and  numerous  owners,  have  de- 
veloped. When  a  man  considers  the  purchase  of  a  security, 
one  of  the  factors  which  influences  his  decision  is  whether  there 
is,  or  is  likely  to  be,  an  active  and  reliable  market  for  the  issue. 
The  owner  of  a  bond  or  a  share  in  a  commercial  enterprise  is 
frequently  engaged  in  an  entirely  unrelated  business  and  should 
he  desire  to  sell  his  holdings  he  has  not  the  time  nor  the  knowl- 
edge required  to  find  an  ultimate  buyer.  Hence,  there  exists 
need  for  a  market,  with  persons  qualified  to  conduct  its  opera- 
tions. 

The  New  York  Stock  Exchange  occupies  a  place  second 
only  to  London  as  the  world's  greatest  market.  There  have 
been  a  succession  of  days  on  which  the  sales  on  the  New  York 
Stock  Exchange  have  averaged  one  and  a  half  million  shares 
per  day,  probably  involving  an  average  of  over  $100,000,000 
in  market  value  daily.  The  Exchange  has  a  membership 
limited  to  1,100;  and  the  cost  of  a  "seat,"  as  the  memberships 
are  termed,  now  is  around  $100,000.  The  machinery  of  this 
Exchange  and  the  importance  of  Exchange  membership  have 
already  been  described  in  the  Texts  on  "Developing  Financial 
Skill,"  and  "Handling  a  Brokerage  Account"  and  it  is  now  un- 
necessary to  discuss  the  points  more  fully.  We  may  add, 
however,  that  throughout  the  various  Texts,  unless  otherwise 
stated,  the  New  York  Stock  Exchange's  methods  and  activities 
are  assumed  whenever  mention  is  made  of  an  Exchange. 


20      Essential  Features   of  Securities 

Consolidated  Stock  Exchange 

A  short  distance  down  Broad  Street  from  the  New  York 
Stock  Exchange  stands  the  handsome  building  of  the  Consoli- 
dated Stock  Exchange. 

The  Consolidated,  unlike  practically  all  other  Exchanges  in 
the  country,  is  not  a  primary  market.  Its  transactions,  except 
in  the  case  of  a  few  specialties,  are  based  solely  upon  quotations 
received  from  the  New  York  Stock  Exchange  by  telegraph  and 
posted,  by  the  aid  of  the  ticker,  on  the  board  which  occupies 
very  nearly  the  entire  length  of  the  building.  Floor  traders 
upon  the  Consolidated  do  not,  consequently,  see  prices  made  in 
the  groups  before  them,  but  are  followers  of  the  other  Exchange 
from  whose  prices,  when  posted  on  their  own  board,  they  take 
their  cue. 

The  volume  of  transactions  is  considerably  less  than  that  of 
the  New  York  Stock  Exchange,  which  means  that  an  active 
market  prevails  with  respect  to  a  much  smaller  number  of  issues. 
The  unit  of  sale  is  ten  shares,  whereas  it  is  100  shares  on  the 
New  York  Stock  Exchange.  Ten,  twenty  and  fifty  share  lots 
comprise  the  run  of  its  business,  with  100  and  500  share  lots 
the  exception. 

The  Consolidated  has,  for  many  years,  served  as  a  training 
school  for  the  New  York  Stock  Exchange.  Those  of  its  members 
who  have  found  themselves  successful,  have  very  commonly 
gone  over  to  the  senior  exchange.  This  has  tended  to  deplete 
the  Consolidated  of  its  strongest  members.  More  recently, 
another  development  which  received  country-wide  publicity; 
namely,  the  wholesale  failure  of  Consolidated  Exchange  houses 
as  a  result  of  the  "Bucket-shop  Crusade,"  dealt  that  Exchange 
a  sad  blow  from  which  it  is  struggling  to  recover. 


The  Curb  Market 

The  Curb  Market,  formerly  on  Broad  Street,  about  half  way 
between  the  New  York  Stock  Exchange  and  the  Consolidated, 


Marketability  21 

was,  for  many  years,  one  of  the  picturesque  scenes  in  the 
financial  district.  The  street,  during  active  sessions,  was  filled 
from  curb  to  curb  with  hundreds  of  traders,  while  in  the  windows 
of  the  buildings  on  both  sides  of  the  street  telephone  clerks 
would  signal  to  them  and  transmit  orders  and  information 
between  these  traders  and  the  offices  of  their  respective  firms. 
The  New  York  Curb  is  now  indoors,  like  the  other  exchanges, 
and  is  more  or  less  under  the  supervision  of  the  major  exchange, 
the  New  York  Stock  Exchange.  It  now  ranks  second,  among 
the  country's  security  markets,  in  the  volume  and  importance 
of  its  transactions. 

The  securities  dealt  in  on  the  Curb  Exchange  represent  a 
wide  variety.  There  are  high-grade  securities,  such  as  Standard 
Oil  stocks;  some  "when,  as  and  if  issued"  securities;  numerous 
"cats  and  dogs"  of  the  market;  and  a  large  number  of  new  issues, 
the  outlook  for  which  upon  the  whole  is  uncertain. 

These  securities  are  duly  listed  upon  the  Curb  Exchange. 
There  is  an  organization  known  as  the  New  York  Curb 
Market  Association  which  supervises  this  listing  and  watches 
over  the  operations  of  the  market  in  general.  In 
practice,  listing  does  not  mean  a  great  deal.  There  are  no 
such  stringent  regulations  regarding  listing,  as  observed  by 
the  New  York  Stock  Exchange.  Under  these  circumstances, 
those  buying  and  selling  Curb  securities  need  to  exercise  unusual 
caution  even  after  making  certain  that  they  are  dealing  with  a 
responsible  firm. 

There  has  been  agitation  for  some  years  in  favor  of  more 
strict  regulations  upon  the  Curb.  Recently  a  considerable 
improvement  has  been  brought  about.  The  open-air  location 
of  the  market  has  always  been  one  element,  however,  which 
rendered  reform  difficult.  With  the  housing  of  the  Curb  Market 
in  a  building  of  its  own,  many  of  the  evils  complained  of  hereto- 
fore have  already  been  and  will  continue  to  be  eliminated. 

The  Curb  provides  what  may  be  termed  a  preliminary  market 
for  the  New  York  Stock  Exchange.     Issues  that  prove  their 


22      Essential  Features   of  Securities 

merit,   very  commonly  are  listed   on   the  senior  exchange,   in 
which  case  trading  in  them  in  the  Curb  Exchange  ceases. 

Listed  Securities 

The  exchanges,  of  which  the  three  described  are  typical, 
exercise  a  more  or  less  strict  regulation  over  the  securities  that 
can  be  dealt  in  on  their  market.  This  regulation  commonly 
is  exercised  through  the  Exchange's  requirements  for  listing. 

The  listing  of  securities  has  already  been  described  (see 
"Developing  Financial  Skill,"  Page  57)  but  it  is  well  to  point 
out  here  that  listing  does  not,  as  it  is  often  thought,  guarantee 
the  value  of  any  security.  The  committee  which  approves,  or 
disapproves,  applications  for  the  listing  of  securities  upon  the 
New  York  Stock  Exchange,  for  instance,  does  not  assume  to 
pass  upon  the  intrinsic  worth  of  an  issue.  That  it  leaves  for 
buyers  and  sellers  in  the  market  to  do. 

What  then  is  the  chief  m.erit  of  listed  securities?  It  is  a 
matter  of  their  marketability.  Hence,  before  attempting  to 
estimate  the  value  of  the  marketability  derived  from  listing  on 
an  exchange,  it  is  essential  to  consider  the  over-the-counter 
method  of  buying  and  selling  securities. 

Over-the-Counter  Market 

The  large  banking  houses  and  dealers  in  investment  securities 
are  primarily  interested  in  the  distribution  of  their  issues,  in 
which  connection  they  find  it  desirable  to  maintain  a  market 
for  them.  Purchasers  turn  to  this  house  when  they  want  to 
add  to  their  line  in  a  particular  issue,  want  information,  or  the 
opportunity  to  sell. 

In  view  of  the  fact  that  investment  securities  are  sometimes 
dealt  in  over-the-counter  in  larger  volume  than  those  listed,  we 
shall  describe  with  some  detail  one  of  these  over-the-counter 
markets.  This  particular  one  is  maintained  by  a  prominent 
public  utility  investment  house  and  represents  what  may  be 
termed  a  fully  organized  over-the-counter  market. 


Marketability  23 

In  the  most  secluded  part  of  a  space  occupied  by  the  bond 
department  of  this  company,  and  in  the  nearest  to  a  sound- 
proof room  available  are  ten  telephones,  a  ticker,  space  for  two 
traders,  an  order  clerk,  two  record  clerks  and  a  stenographer. 
This  is  the  "trading  room,"  one  of  the  two  main  arteries  through 
which  all  the  security  business  of  the  company  flows.  The 
other  is  the  underwriting  department,  through  which  new  issues 
are  offered,  whose  activities  are  not  here  described,  but  are 
taken  up  in  detail  in  the  Text  "Securing  Capital  for  Established 
Enterprises." 

Through  a  system  of  private  telegraph  wires  to  the  houses 
which  regularly  quote  and  trade  in  these  public  utility  issues, 
connection  can  be  had  in  five  minutes  or  less,  with  every  impor- 
tant city  in  the  United  States,  the  principal  cities  in  Canada, 
and  during  the  season  with  many  of  the  out-of-town  resorts, 
as  in  Maine,  the  North  Carolina  Mountains,  Florida,  and  many 
others.  Quotations  are  also  sent  regularly  to  Europe  by  cable. 
This  "trading  room"  is  the  center  of  all  such  quotations. 

Making  the  Over-the-Counter  Market 

The  setting  of  prices  and  the  putting  through  of  purchases 
and  sales  is  done  within  this  room  by  what  is  termed  the  com- 
pany's trader.  The  work  of  this  trader  calls  for  both  native 
aptness  and  special  training.  The  problems  that  a  trader  must 
handle  require  that  he  possess  fairness,  quickness,  accuracy, 
courtesy,  a  good  memory,  and  a  knowledge  of  psychology. 

A  reputation  in  the  Street  for  fairness  is  a  great  asset.  The 
work  is  all  done  over  telephones  and  no  confirmations  of  transac- 
tions occur  until  the  close  of  the  day  or  the  next  morning.  It 
is  all  done  over  telephones  whose  functioning  is  frequently 
imperfect.  Opportunities  for  misunderstanding  continuously 
arise.  If  the  man  with  whom  one  deals  believes  in  the  trader's 
fairness,  an  adjustment  without  friction  can  usually  be  made. 

Business  men  as  a  rule  when  they  enter  into  transactions, 
particularly  when  these  involve  any  amount  of  money,  have 
opportunities   to   make   comparisons   and   form   their  opinions. 


24      Essential  Features   of  Securities 

No  such  conditions  of  leisure  arise  in  this  trading  room.  The 
telephone  will  ring.  The  man  at  the  other  end  may  want  to 
buy  or  to  sell  anything  from  a  fraction  of  one  share  to  a  thousand 
shares,  or  from  a  fractional  bond  to  $100,000  of  bonds  or  more. 
The  trader  to  succeed  as  he  should  cannot  afford  to  keep  the 
prospective  customer  waiting.  His  decision  ought  to  be  made 
promptly,  taking  into  consideration  his  buying  and  selling 
orders,  the  general  condition  of  the  market,  not  only  in  his  own 
special  issues  but  in  the  issues  quoted  on  the  Stock  Exchange, 
which  is  the  great  barometer  of  security  values  and  general 
business  conditions.  He  has  to  form  an  opinion  quickly  as  to 
the  price  at  which  he  will  be  able  to  buy  the  amount  of  securities 
that  the  purchaser  wishes,  or  to  sell  them  if  some  other  broker  is 
offering  them  for  sale. 

Bids  and  Offers 

Cards  are  always  kept  in  this  "trading  room"  showing  bids 
and  offers  in  connection  with  any  of  the  company's  securities; 
also  a  record  of  the  "long"  and  "short"  positions  at  the  time. 
It  is  impossible  to  match  a  buying  against  a  selling  order  at  all 
times  and  the  trader  frequently  takes  a  position  in  a  stock  — 
that  is,  he  is  willing  to  buy  at  a  price  which  he  thinks  will  enable 
him  to  sell  at  a  profit,  or  to  sell  when  he  thinks  he  can  buy  in 
securities  at  a  lower  price  from  the  Street,  or  a  customer.  The 
cards  are  valuable  aids,  but  any  trader  who  relies  on  them 
slavishly,  except  in  the  case  of  very  inactive  securities,  would 
soon  lose  standing  in  the  Street.  All  these  facts  he  needs  to 
have  at  his  command  at  all  times.  It  takes  a  highly  specialized 
and  active  memory  to  do  this  work. 

The  activities  of  this  "trading  room"  are  largely  confined 
to  the  handling  of  the  company's  own  issues.  They  do,  however, 
execute  orders  in  any  security  that  has  a  reliable  market  for 
customers  who  have  no  regular  brokerage  connection.  This 
service  is  usually  without  charge  except  the  brokerage  com- 
mission paid  by  them  to  the  stock  exchange  or  other  firm  which 
executes  the  o^der.  This  is  purely  an  accommodation  and  no 
effort  is  made  to  increa.se  the  volume  of  this  kind  of  business. 


Marketability  25 

Chief  Object  Sought 

The  company's  main  object  in  maintaining  this  "trading 
room"  for  the  handhng  of  its  over-the-counter  business  is  distri- 
bution, and  not  profit.  The  desire  is  to  furnish  a  reliable  market 
and  to  secure  a  wide  distribution  among  its  clients  and  the 
investing  public.  The  volume  of  business  handled  in  this 
particular  "trading  room"  is  considerable.  $2,000,000  days 
are  not  unusual.  When  one  takes  into  consideration  that  there 
are  five  or  six  conversations  for  each  order  that  is  executed,  some 
idea  may  be  formed  of  the  speed  at  which  the  work  must  be 
done. 

Most  of  the  foregoing  has  been  descriptive  of  the  work  done 
by  a  house  direct  with  New  York  brokers  and  investment 
houses.  In  the  "trading  room,"  mail  and  local  customers' 
orders  are  also  handled,  thus  centralizing  the  work  under  one 
head.  This  has  been  found  more  productive  of  speed  and 
accuracy  in  handling  the  business. 

Other  Over-the-Counter  Markets 

What  has  been  said  describes  the  over-the-counter  business 
as  conducted  by  one  of  the  larger  investment  houses,  which  has 
devoted  considerable  attention  to  the  matter  and  which  has 
evolved  a  well  organized  market  for  its  own  issues.  This  is 
typical,  rather  than  otherwise,  however,  of  what  the  largest 
banks  and  investment  houses  are  doing.  They  each  maintain 
more  or  less  elaborate  facilities  for  the  providing  of  a  market  for 
their  securities. 

The  smaller  investment  houses  and  the  investment  depart- 
ments of  brokerage  houses  provide  a  market  in  much  the  same 
way  for  over-the-counter  investment  securities,  though  they 
do  not  have  the  volume  of  transactions  which  justifies  all  the 
organization  that  has  been  described. 

Finally,  least  organized  of  all,  is  the  work  of  a  single  "trader" 
who,  oftentimes  with  little  else  than  desk  room  and  telephone 
as  his  equipment,  seeks  to  render  himself  an  effective  connecting 
link,   or  market,   between   purchasers   and   sellers   of  whatever 


26      Essential  Features   of  Securities 

securities  he  may  have  chosen  to  deal  in.  Perhaps  he  may  ad- 
vertise in  the  papers  his  offerings  and  wants,  and  otherwise 
seek  to  extend  his  influence  in  bringing  buyers  and  sellers  to- 
gether, at  a  difference  between  buying  price  and  selling  price 
which  leaves  him  a  margin  as  profit. 

Functions  of  the  Market 

The  facilities  that  have  been  described,  though  in  external 
appearance  varying  widely,  as  for  instance  the  New  York  Stock 
Exchange  and  a  lone  "trader"  over  his  one  telephone  dealing  in 
an  over-the-counter  security,  all  represent  useful  cogs  in  the 
financial  machine. 

These  markets  register  the  supply  and  demand  for  their 
respective  securities,  and  interpret  them  in  terms  of  price  — ■  bid 
and  asked  —  for  the  convenience  of  buyers  and  sellers. 

Sales  Activity 

Now  that  the  facilities  or  machinery  of  the  different  security 
markets  have  been  examined,  let  us  look  with  more  detail  into 
the  New  York  Stock  Exchange's  market  for  common  stocks. 
Two  points  merit  special  attention,  viz.,  sales  activity  and 
closeness  of  quotations. 

Is  the  stock  under  consideration  an  active  issue,  frequently 
traded  in? 

This  question  has  special  significance  to  speculators  who  are 
trying  to  take  advantage  of  short  swings  in  the  market  —  the 
professional  ofifice  trader  for  example.  This  trader  possibly  scents 
a  move  upward;  stocks  gradually  harden  and  then  briskly 
advance.  With  his  order  ready  to  hand  in,  is  it  not  a  matter  of 
decided  concern  to  him  whether  the  stock  in  which  he  con- 
templates trading  appears  frequently  upon  the  tape?  What 
the  trader  wants  when  he  enters  his  order  "at  the  market"  is  a 
market;  it  does  not  help  him  much  to  have  to  wait  an  hour  or 
two,  let  alone  days  and  weeks,  as^ill  be  the  case  with  certain 
inactive  issues,  to  have  his  order  filled.     Moreover,  his  broker 


Marketability  27 

must  be  stricter  with  margin  requirements  when  inactive  issues 
are  dealt  in. 

Classification 

With  respect  to  their  activity,  the  common  stocks  listed  upon 
the  New  York  Stock  Exchange  have  been  divided  into  these 
four  groups: 

A.  Very  active  C.      Generally  inactive 

B.  Fairly  active  D.     Rarely  quoted 

In  arriving  at  this  classification  the  total  number  of  shares  traded  in  on 
the  Exchange  during  the  seven  years  1913-19  were  computed  and  the  one- 
quarter  of  the  stocks  whose  transactions  were  largest  were  marked  A,  the 
quarter  whose  transactions  were  smallest  were  marked  D,  and  the  remain- 
ing two  quarters  B  and  C  respectively.  A  few  issues  are  being  cited  as- 
examples: 

Kings  County  Electric  Light  &  Power  Co.,  and  International 
Salt  represent  issues  in  which  transactions  seldom  occur. 
Weeks  may  go  by  without  issues  of  this  type  appearing  once 
upon  the  tape.  Scarcely  a  quarter  hour  of  the  market  session 
passes,  however,  without  several  sales  of  United  States  Steel, 
General  Motors,  Crucible,  Studebaker,  and  other  similarly  active 
issues.     Pages  30-32  present  a  number  of  issues  classified. 

Market  Quotations 

Closely  associated  with  sales  activity,  the  time  one  has  to 
wait  before  his  order  is  filled,  is  that  of  a  change  in  price  between 
successive  quotations.  Here  again  the  matter  concerns  the 
investor  who  buys  and  sells  infrequently,  decidedly  less  than  it 
does  the  in-and-out  trader. 

The  stock  in  which  he  contemplates  a  commitment  appears 
upon  the  tape,  let  us  say,  400  shares  at  80|.  Were  he  to  enter 
his  order  at  the  market  what  would  he  likely  get?  With  some 
issues  he  can  count  upon,  as  a  rule,  no  more  than  an  eighth  or 
a  quarter  away  from  the  last  quotation,  if  not  the  same  price 
itself.     But,  in  others  his  transaction  may  be  put  through  at 


^8      Esse7ttial  Features    of  Securities 

•one-half  or  possibly  even  two  or  three  full  points  from  its  last 
price.  Obviously,  these  differences  mean  considerable  to  him, 
particularly  if  he  is  trying  to  take  advantage  of  the  shorter 
swings. 

With  respect  to  their  market  quotations,  stocks  have  been 
■divided  into  these  four  groups: 

A.  Very  close  C.     Moderately  wide 

B.  Moderately  close  D.     Wide  and  erratic 

The  market  for  a  stock  consists  of  two  parts,  the  bid  and  the  asked  prices. 
When  a  customer  asks  his  broker  for  a  quotation,  the  latter  finds  out  by 
^phoning  over  to  the  floor  what  these  respective  bid  and  asked  prices  are. 
What  these  bid  and  asked  prices  are  at  closing  appears  upon  the  tape  just 
.after  the  market  session  has  ended  and  newspapers  often  print  them  as  an 
item  of  useful  information  along  with  the  record  of  transactions. 

The  classification  here  shown  has  been  arrived  at  by  securing  25  closing 
bid  and  asked  prices,  not  upon  successive  days  but  drawn  from  various 
markets;  subtracting  to  find  the  difi^erence  between  the  two  prices  on  the 
respective  days;  averaging  these  differences,  which  gives  the  average  difference 
or  closeness  of  the  stock's  quotation.  The  one  quarter  of  the  common  stocks 
listed  upon  the  Stock  Exchange  whose  quotations  were  closest  were  marked 
A,  the  one  quarter  whose  quotations  were  widest  marked  D,  and  the  remaining 
two  quarters  B  and  C  respectively. 

United  States  Steel  has  a  very  close  market;  upon  the  tape  successive 
changes  in  price  vary  as  a  rule  only  an  eighth.  This  contrasts  sharply  with 
Liggett  &  Myers,  for  instance,  the  spread  between  the  bid  and  asked  prices 
•of  which  frequently  is  ten  full  points;  or  with  S.  S.  Kresge,  another  high- 
priced  inactive  issue  the  spread  of  which  at  times  exceeds  twenty  points. 
The  tables  presented  later,  on  Pages  30-32,  cite  a  number  of  issues. 

Market   Essentials 

Marketability  in  the  minds  of  most  persons  means  that  the 
issue  is  listed  on  the  New  York  Stock  Exchange.  There  are 
many  hundreds  of  issues  listed  on  the  Stock  Exchange,  however, 
while,  as  the  daily  papers  show,  only  a  relatively  few  are  active. 
Due  to  the  fact  that  they  are  rarely  traded  in,  few  issues  are  so 
obscure  as  some  of  these  listed  securities. 

There  are  other  issues,  moreover,  not  listed  on  any  Exchange, 
yet  for  which,  as  was  shown  above  in  the  case  of  certain  over- 
the-counter    securities,     an     excellent     market     obtains.     This 


Marketability  29* 

emphasizes  the  fact  that  after  all  a  good  market  represents  only 
the  place  where  demand  and  supply  register  with  effectiveness- 
their  forces  and  where  buyers  and  sellers  can  conveniently  get 
together  with  fairness  to  each  other. 


CHAPTER   V 
STATISTICAL   SUMMARY 

Factors  Studied 

The  results  of  the  statistical  study  cited  on  preceding  pages 
may  now  be  summarized.  This  study  concerned  four  factors, 
as  follows: 

Annual  Fluctuation 

A.  Very  wide  C.     Moderate 

B.  Wide  D.     Slight 

Manipulative  Activity 

A.  Highly  manipulated  C.     Occasionally  manipulated 

B.  Frequently  manipulated      D.     Rarely,  if  ever,  manipulated 

Volume  of  Transactions 

A.  Very  active  C.     Generally  inactive 

B.  Fairly  active  D.     Rarely  quoted 

Closeness  of  Market 

A.  Very  close  C.      Moderately  wide 

B.  Moderately  close  D.     Wide  and  erratic 

Classification  of  Common  Stocks 

Annual       Manipulative     Volume  of    Closeness  of 
STEEL  Fluctuation         Activity       Transactions      Market 

U.  S.  Steel  B A A A 

Bethlehem  Steel  "B"  A A A A 

Republic  Iron  and  Steel      A A .A A 

Gulf  States  B A A B 

Crucible  A A A B 


Statistical   Summary 


31 


Annual     Manipulative     Volume  of     Closeness  of 
COPPERS  Fluctuation       Activity       Transactions       Market 

Anaconda  B B A A 

Utah  B C B A 

Kennecott  B B B A 

Inspiration  B B B A 

American  Smelters  B B B A 

EQUIPMENTS 

Baldwin  Locomotive  A A A A 

American  Locomotive         B A A A 

Am.  Car  and  Foundry        A C B B 

Pressed  Steel  Car  B B C C 

MOTORS 

Studebaker  A A A A 

Chandler  B A B B 

General  Motors  C B A A 

RUBBERS 

U.S.  Rubber  B B A A 

Goodrich  B B A B 

Kelly-Springfield  B B B B 

Lee  Rubbers  Tire  C B B B 

MACHINERY  AND  MANUFACTURING 

General  Electric  B B B B 

Westinghouse  C B C A 

x'\dvance-Rumely  B C C C 

American  Can  A A A A 

OILS 

Texas  C B A A 

Pan-American  Pet.  A A A B 

Associated  Oil  C D   C B 

Sinclair  B.. A A A 

Royal  Dutch  C B B B 

FOODS 

National  Biscuit  B B C B 

Loose-Wiles  A B C C 

Corn  Products  B B A A 

California  Packing  B B C B 


32      Essential  Features   of  Securities 


Annual 
FOODS — {continued)     Fluctuation 
American  Linseed 
American  Sugar  Ref. 
American  Beet  Sugar 
Cuba  American  Sugar 


Va.-Carolina  Chemical 
Allied  Chemical 
American  Tobacco 
Tobacco  Products 
American  Woolen 
Int.  Mer.  Marine 
United  Fruit 
Central  Leather 
Am.  Hide  and  Leather 


Manipulative     Volume  of       Closeness  of 
Activity      Transactions         Market 


B 

B 

B..  .    . 

...  A   

A 

B 

B 

A 

A 

A 

B 

B 

B 

A 

A 

A 

STRL'\LS 

B C 

C 

B 

B 

A 

B 

B 

C 

A 

B 

C 

B 

A 

C 

A 

A 

B 

B 

B 

B 

B 

A 

B 

B 

A 

A 

C 

A 

C 

B 

A 

A 

B 

B 

C 

MERCHANDISING 

S.  H.  Kress 
May  Dept.  Stores 

B 

C 

D  .... 

B 

D  .  ... 

C 

D  .... 

C 

Sears-  Roebuck 

B 

A 

B      ..  . 

B 

S.  S.  Kresge 

A 

B 

C 

D  

Woolworth 

A 

B 

B 

C 

RAILS 

Union  Pacific 

A 

A 

A 

B 

Canadian  Pacific 

A     ..  . 

A 

A 

B 

Pennsylvania 
New  York  Central 

D  .... 
B..    . 

D  

B 

A 

A 

A 

A 

Southern  Railway 

B 

B 

A 

A 

C,  M.  <&  St.  Paul 

B 

B 

A 

A 

Reading 

PUBLIC  UTILITIES 
American  Tel.  &.  Tel. 

B 

A 

A 

A 

C 

c 

.  .     B     . .  . 

A 

Consolidated  Gas 

B 

.    . .   B     .    . . 

B 

A 

Brooklyn  Union  Gas 

D  

C 

D  .  ... 

D  .... 

Conditions  Change 

The    foregoing    classifications    represent    what    obtained    in 
these  stocks,  with  respect  to  annual  fluctuation,  manipulative 


Statistical  Summary  33 

activity,  volume  of  transactions  and  closeness  of  market,  during 
the  years  1913  to  1919  for  the  most  part.  However,  in  accord- 
ance with  the  note  at  the  bottom  of  Page  18,  the  editors  have 
considered  it  advisable  to  make  certain  changes  in  the  original 
calculations  in  order  to  make  the  tables  of  current  value  in 
aiding  the  reader  to  appraise  the  characteristics  of  the  stocks 
reviewed  in  the  light  of  their  action  in  present  day  markets. 
It  must  be  remembered,  however,  that  the  market  is  in  a 
constant  state  of  flux.  Changes  are  continuously  taking  place. 
New  issues  are  being  listed  and  are  displacing  the  old  standbys 
in  point  of  speculative  favor.  Former  favorites,  such  as  certain 
of  the  "war  brides,"  have  dropped  into  relative  neglect.  This 
process  goes  on  in  the  market  month  by  month,  which  means 
that  in  studying  a  security  with  respect  to  its  market  behavior 
one  must  always  be  open  to  new  conditions  and  ready  to  revise 
his  views. 


CHAPTER   VI 
PROVISIONS   UNDER   WHICH   ISSUED 

Conditions  of  Issue 

There  are  certain  conditions  under  which  a  security  is  issued 
that  merit  consideration  in  this  classification.  Of  these  we  may 
cite: 

1.  Maturity. 

Bonds  in  general  have  a  stated  maturity;  common 
stocks  do  not,  nor  do  preferred  stocks  as  a  rule. 
Occasionally  a  bond  or  preferred  stock  is  made  call- 
able at  a  specified  price.  This  is  discussed  in  detail 
in  the  Text  "Investment  Securities." 

2.  Issuance. 

Stocks  may  be  (a)  issued  and  outstanding,  that  is,  sold 
or  otherwise  disposed  of;  (b)  unissued,  that  which  is 
authorized  but  not  yet  disposed  of;  (c)  treasury 
stock  which  has  been  issued  and  once  was  out- 
standing but  which  has  since  been  acquired  by  the 
corporation  and  is  now  held  as  an  asset  in  its  Treasury. 

3.  Full  Paid  or  Assessable. 

Full  paid  stocks  represent  those  fully  paid  for  in 
money,  property,  or  labor  as  required  by  law,  the 
certificates  being  stamped  "Full  paid  and  non- 
assessable," whereas  assessable  stocks  means  that 
the  holder  is  still  subject  to  further  payments. 

This  does  not  mean  that  certificates  that  are  stamped  "Full 
paid    and    non-assessable"    insure    their    holders    against    the 


Provisions     U n d e r    Which   Issued      35 

possibility  of  assessment.  It  is  true  that  those  certificates 
themselves  cannot  be  assessed.  This,  however,  is  circumvented 
by  the  following  method:  A  new  company  is  formed  to  take 
the  place  of  the  old  company  which  was  not  successful.  Stock- 
holders of  the  old  company  are  offered  the  opportunity  of  ex- 
changing into  the  stock  of  the  new  company  upon  the  payment 
of  a  certain  amount  per  share. 

For  illustration,  let  us  suppose  that  the  United  Creek  Mining 
Company,  having  outstanding  "full  paid  and  non-assessable" 
shares,  goes  into  receivership.  Certain  interests  may  form  the 
United  Creek  Copper  Company,  an  entirely  new  company, 
but  operating  the  same  property.  Stockholders  of  the  first 
company  are  then  offered  the  privilege  of  buying  stock  in  the 
United  Creek  Copper  Company  upon  the  payment  of  $1.00 
a  share.  In  such  a  case  the  assets  of  the  old  company  must  be 
sold  and  some  small  distribution  might  be  made  on  the  old 
stock,  although  in  general  practice  this  does  not  amount  to 
anything.  This  illustration  shows,  that,  for  practical  purposes, 
the  statement  "Full  paid  and  non-assessable"  should  be  given 
little  weight. 

Par  Value 

Stocks  and  bonds  are  usually  issued  bearing  a  nominal  or  face 
value.  This  value  is  called  "par."  Par  value  is  important  in 
the  case  of  bonds,  as  it  indicates  the  principal  sum  which  the 
corporation  agrees  to  pay  the  holder  at  maturity,  and  on  which 
it  agrees  to  pay  interest  in  the  mean  time. 

With  stocks  par  value  has  relatively  little  meaning.  It  is 
convenient  to  designate  three  classes: 

1.  Regular. 

The  great  majority  of  corporations  have  issued  stock 
with  a  par  value  of  $100.00  and  bonds  at  a  par  value  of 
$1,000.00.  For  this  reason  par  values  of  such  de- 
nominations may  be  termed  regular. 


36      Essential  Features   of  Securities 

2.  Special. 

A  number  of  companies  have  issued  stock  whose  par 
value  is  $50.00,  $25.00,  $10.00,  $1.00  or  as  low  as 
10  cents.  Similarly  bonds  are  often  issued  in  smaller 
denominations  than  $1,000.00.  These  being  known 
in  the  Street  as  "baby  bonds." 

3.  No  Par  Value. 

The  fact  that  a  certificate  has  a  certain  face  value 
stamped  upon  it  does  not  guarantee,  by  any  means, 
as  later  Texts  will  render  evident,  that  this  sum  can 
be  obtained  for  it  in  the  market.  Inasmuch  as  a 
share  of  common  stock  represents  a  share  in  the  equity, 
the  important  thing  to  ascertain  is  not  the  par  value, 
but  the  number  of  shares  outstanding  among  which 
the  equity  in  assets  or  earnings,  if  any,  must  be 
divided.  Recognition  of  this  fact  has  caused  an 
increasing  tendency  to  issue  stocks  of  no  stipulated 
par  value.  Corporations  issuing  stock  in  this  way 
list  the  number  of  shares  and  the  equity  represented 
in  their  financial  statement. 

This  is  an  important  point.  Investors  should  recognize 
right  at  the  start  that  "par  value"  has  little  meaning.  For 
example,  let  us  consider  a  corporation  which  has  200,000  shares 
of  stock  outstanding  with  a  par  value  of  $100.  This  would 
form  a  liability  of  the  company  amounting  to  $20,000,000.  Let 
us  assume  that  the  value  of  the  property  owned  by  such  com- 
pany, figured  on  a  conservative  basis,  is  $10,000,000.  Under 
such  conditions,  the  actual  value  of  the  common  stock,  if  the 
company  had  no  other  liabilities,  would  be  $50  a  share,  not 
$100  a  share,  its  par  value.  Such  a  company,  it  may  be  noted 
in  passing,  to  make  its  Balance  Sheet  balance  would  carry  on  the 
asset  side  Plant,  Inventories,  etc.,  $10,000,000.  Good-Will, 
Trade  Marks,  Patents,  $10,000,000.  On  the  liability  side  would 
appear  Common  Stock  $20,000,000. 

In  many  respects,  then,  the  increasing  use  of   no-par   value 


Provisions     Under    Which   Issued      37 

stocks  is  to  be  commended.  It  allows  the  corporation  to  give 
the  common  stock  a  value  on  its  books  that  it  considers  com- 
mensurate with  the  actual  asset  values  available  for  application 
to  common  stockholders.  To  take  the  company  illustrated 
above:  If  the  stock  had  no  par  value  and  the  plant,  machinery, 
etc.,  was  worth  $10,000,000,  a  conservative  Board  of  Directors^ 
would  immediately  set  up  a  balance  sheet  showing  $10,000,000 
of  assets  and  200,000  shares  of  common  stock  as  a  liability  with 
a  value  of  $10,000,000.  From  an  examination  of  the  balance 
sheet  this  would  give  a  clearer  conception  of  the  actual  values 
behind  the  common  stock  than  would  the  carrying  of  the  issue 
at  $20,000,000  in  accordance  with  the  first  balance  sheet  men- 
tioned. 

Control 

Control  over  the  corporation  legally  is  exercised  through 
voting  power.  Certain  issues  here  again  have  prior  claims, 
though,  as  compared  with  the  foregoing,  the  conditions  as  a 
rule  are  reversed. 

1.  Common  Stock. 

The  holders  of  the  common  stock,  as  a  usual  condition, 
control  the  corporation  in  that  they  possess  the 
voting  power. 

2.  Preferred  Stock. 

The  preferred  usually  has  no  voting  power,  though  under 
special  conditions,  such  as  non-payment  of  dividends, 
it  may  have  equal  or  perhaps  superior  power  over  the 
common. 

3.  Bonds. 

The  situation  is  much  the  same  as  in  the  case  of  the  pre- 
ferred stock;  so  long  as  their  interest  is  paid,  bond- 
holders have  no  control,  but,  should  interest  payment 
be  defaulted,  their  power  mounts  until,  if  considered 
necessary,  they  may  take  over  the  direction  of  the 
company. 


447459 


38      Essential  Features   of  Sectirities 

The  relation  of  these  different  factors  —  conditions  of  issue, 
par  value  and  control  —  to  the  financial  values  and  selling  prices 
of  the  different  types  of  corporation  bonds  and  stocks  is  dis- 
<:ussed  fully  in  later  Texts.  All  that  is  desired  here  is  to  have 
the  existence  of  these  various  factors  well  fixed  in  the  mind  of 
the  investor. 


CHAPTER  VII 
PRIORITY   OF   CLAIMS 

Right  to  Assets  and  Earnings 

Certain  issues  have  prior  claims  to  earnings,  and,  should 
these  earnings  not  suffice  to  meet  their  claims,  a  prior  lien  on 
the  corporation's  assets.  Arranged  in  the  order  of  priority, 
these  are: 

1.  Bonds. 

Bonds  usually  bear  interest  at  a  stipulated  rate  on  the 
face  value  and  are  payable  upon  maturity  at  par. 
Therefore,  no  matter  how  prosperous  the  issuing 
corporation  may  be,  the  bondholder  will  receive  only 
a  fixed  amount,  but  he  must  be  well  assured  of  re- 
ceiving this  or  he  will  not  be  willing  to  forego  the 
possibility  of  a  speculative  profit. 

Priority  of  claims  upon  earnings  and  assets  represents 
the  usual  form  of  this  assurance.  Bonds  take  pre- 
cedence over  other  securities.  But  certain  classes 
of  bonds  themselves  in  a  given  corporation  take 
precedence  over  other  issues.  Thus  there  are:  First 
mortgage  bonds,  second  mortgage  bonds,  first  re- 
funding, collateral  trust  bonds,  debentures,  etc. 
The  bondholder  is  a  creditor,  to  whom  the  corpora- 
tiori"has  legally  obligated  itself  to  make  payments. 

2.  Preferred  Stock. 

Preferred  stocks  have  claims  on  assets  and  earnings 
junior  to  the  claims  of  all  creditors,  but  prior  in  some 
or  all  respects  to  the  claims  of  common  stocks. 


40      Essential  Features   of  Securities 

They  may  be  preferred  as  to  assets  alone,  or  as  to  assets 
and  earnings. 

They  may  be  preferred  up  to  a  certain  percentage  of 
dividends  and  after  a  Hke  amount  has  been  paid  on 
the  common  they  may  participate  in  any  further 
distribution.  Such  a  preferred  stock  is  called  "par- 
ticipating." 

Provision  is  usuall}^  made  that,  in  the  event  of  disso- 
lution, the  preferred  stock  is  entitled  to  its  par  value 
and  accrued  dividend  before  anything  is  distributed 
on  the  common.  Some  provisions  go  further  and 
give  the  preferred  stock  the  right  to  a  premium  over 
par  before  any  assets  are  distributed  to  the  common 
stockholders. 

In  the  case  of  accumulative  preferred  stock  it  is  pro- 
vided that  any  dividend  unpaid  shall  accumulate 
and  must  be  paid  before  any  distribution  can  be 
made  on  the  common. 

3.  Common  Stocks. 

The  common  stock  of  a  corporation  represents,  as  a 
rule,  ownership  and  management  of  the  company. 
Should  the  company  be  financially  unsuccessful  the 
common  stock  is  entitled  to  what  is  left  over  of 
assets  after  all  creditors  and  preferred  stockholders 
have  been  satisfied.  But  as  long  as  the  company  is 
active  and  successful  the  common  stock  is  concerned 
chiefly  with  its  equity  in  earnings. 

Here  again,  we  hit  upon  a  point  which  is  most  vital  to 
every  investor.  We  repeat,  common  stockholders 
are  chiefly,  if  not  entirely,  concerned  with  the  equity 
in  earnings.  This  is  why  a  common  stock  should 
never  be  considered  a  true  investment  for  the  con- 
servation of  one's  funds.  The  common  stockholder 
is  always  a  partner  in  the  enterprise,  never  a  creditor. 


P r tor ity   of  Claims  41 

A  man  who  wishes  to  conserve  his  funds  and  receive 
a  return  while  doing  so  should  lend  his  money  and 
not  enter  an  enterprise  as  a  partner,  either  industrial, 
railroad,  or  public  utility. 

Instances  corroborative  of  such  advice  have  been 
shown  in  a  previous  chapter.  We  will  simply  again 
call  to  your  attention  the  history  of  such  companies 
as  the  Chicago,  Milwaukee  &  St.  Paul,  American 
Sugar  Refining  Company,  New  York,  New  Haven  & 
Hartford  Railroad,  and  Brooklyn  Rapid  Transit. 
All  of  these  companies  had,  at  one  time,  common 
stocks  on  which  dividends  had  been  paid  continu- 
ously for  a  number  of  years.  Many  supposed  that 
these  continued  cash  payments  had  removed  specu- 
lative conditions  from  these  stocks.  It  is  of  vital 
importance  to  note  that  when  a  great  number  of 
investors  had  reached  such  a  conclusion,  future 
developments  immediately  brought  about  a  reverse 
condition. 

Cycles  of  depression  and  prosperity  and  cycles  of  price 
changes  follow  each  other  in  this  country  with 
considerable  regularity,  as  we  will  see  from  following 
Texts.  As  long  as  they  do,  we  can  hardly  expect  to 
see  the  development  of  permanent  stability  under- 
neath common  stocks.  They  are  essentially  specu- 
lations on  the  prosperity  and  reverses  of  corporations. 
Bondholders  are  creditors  and  are  generally  secured 
by  a  lien  on  the  assets  of  the  issuing  corporation. 
They  are  not,  for  that  reason,  as  vitally  affected  by 
a  series  of  business  ups  and  downs.  They  are  the 
only  true  investments. 

The  Value  of  a  Security 

The  priority  of  an  issue's  claims  upon  earnings  and  assets 
does  not  constitute,  of  course,  that  which  at  first  glance  it  may 
appear  to  be,  viz.,  an  easy  test  of  safety,  or  degree  of  security. 


42      Essential  Features   of  Securities 

Yet  the  latter  is,  along  with  one  other  question,  viz.,  the  timetobuy 
and  sell,  the  most  important  fact  in  stock  and  bond  transactions. 

Investors  will  see  in  the  following  Texts  the  reason  for  these 
statements.  The  value  of  any  security  depends  upon  its  earn- 
ings. Therefore,  after  we  have  determined  the  position  in  the 
business  cycle,  the  question  of  priority  of  claims,  first  upon 
earnings,  and  second  upon  assets,  is  vital.  Assets  are  only 
valuable  as  they  produce  earnings.  The  value  of  assets  fluctuate 
with  the  amount  of  earnings.  For  illustration :  An  iron  and  steel 
plant  operating  at  100%  of  capacity  may  be  worth  $20,000,000. 
The  same  plant  operating  at  20%  of  capacity,  in  a  period  of 
depression,  with  the  outlook  dark,  would  do  well  to  sell  for 
$5,000,000  under  forced  sale.  It  will  be  appreciated  that  what 
has  caused  such  a  depreciation  in  the  value  of  the  assets  is  the 
inability  of  the  company  to  do  more  than  25%  of  the  business, 
and  hence  earn  less  than  25%  as  much  as  it  did  when  the  first 
valuation  of  the  plant  was  made. 

Saying  that  the  value  of  any  security  depends  upon  earnings 
does  not  refute  the  previous  discussion  of  the  relation  of  bonds 
and  stocks.  It  is  naturally  true  that  the  stock  of  Atchison  pay- 
ing $6.00  a  share  and  earning  $12-$18  is  superior  to  a  4%  bond 
of  the  Sea  Board  Air  Line,  which  is  in  a  very  weak  financial 
position  and  barely  earning  fixed  charges.  Such  a  statement 
is  obvious  from  a  casual  examination  of  both  the  asset  values 
and  earning  power  of  the  respective  companies. 

Earnings  of  virile  progressive  corporations,  however,  must 
be  considered  on  the  basis  of  stock  against  stock  and  bond 
against  bond.  That  is,  the  ability  of  Atchison,  for  example, 
to  earn  twice  the  dividend  payments  of  6%  cannot  give  its 
stock  a  rating  comparable  with  the  bonds  of  the  St.  Louis  Iron 
Mountain  and  Southern,  a  strong  subsidiary  of  the  Missouri 
Pacific  System.  Atchison's  stock,  in  spite  of  its  satisfactory 
earnings  simply  represents  a  partnership  in  the  property.  The 
bonds  of  the  St.  Louis  Iron  Mountain  and  Southern  represent  a 
lien  on  that  company's  assets,  as  well  as  a  claim  upon  its  earning 
power  prior  to  stockholders. 


Priority   of  Claims 


43: 


The  importance  of  determining  the  value  of  a  stock  or  bond 
is  such  that  later  authors  will  treat  the  matter  at  some  length. 
The  next  Text  deals  with  railroad  securities  and  those  which 
follow  it  in  turn  treat  industrials,  mines  and  oils.  These  four 
Texts  have  a  single  aim,  that  the  client  become  better  able 
to  determine  the  true  value  of  the  securities  in  which  he  is  in- 
terested. 


^^ 


44      Essential  Feat  tt  res   of  Securities 


KEY  PROBLEM 

ESSENTIAL  FEATURES  OF  SECURITIES 

Given  Two  Companies  A  and  B 

A  B 

Preferred  Stock  7% $7,000,000  $9,000,000 

Common  Stock 19,000,000  12,000,000 

Bonds  5% 5,000,000  10,000,000 

Earnings  in  Prosperity 3,300,000  3,200,000 

Earnings  in  Depression 2,100,000  1,500,000 

Which  common  stock  offers  the  best  speculative  opportunities 
and  why?  Consider  carefully  relative  capitalization,  earnings 
available  for  charges  and  dividends  and  fluctuation  in  earnings 
on  the  two  common  stocks. 


Garden  City  Press,  Inc. 
Newton,  Mass. 


TEST  QUESTIONS 
'THE   ESSENTIAL   FEATURES   OF  SECURITIES" 

The  Test  Questions  which  are  unstarred  can  be  answered 
directly  from  the  Text  discussion.  You  will  find  them  helpful 
for  purposes  of  review. 

The  questions  which  are  starred  call  for  original  thought^ 
the  ability  to  apply  the  knowledge  gained  from  the  Text  to  the 
solution  of  new  problems. 

1.  When  does  most  investigation  of  securities  by  investors- 
tiake  place,  before  or  after  purchase? 

2.  What  factors  should  be  watched  in  order  to  get  at  the 
causes  of  the  broad  swings  of  securities? 

*3.  Does  a  low-priced,  or  a  high-priced,  stock  fluctuate 
more,  as  a  rule,  in  proportion  to  its  price? 

4.  What  various  elements  give  a  stock  speculative  flavor?" 
(See  Pages  15,  16  of  present  Text;  also  Chapter  4  of  "Manipula- 
tion and  Market  Leadership.") 

*5.  "I  hold  50  shares  of  Babcock  &  Wilcox,  which  has  come 
to  me  as  part  of  an  inheritance.  Where  can  I  find  out  what  it 
is  selling  for  at  present,  and  dispose  of  it,  if  the  price  appears- 
satisfactory?" 

6.  Does  listing  a  security  upon  an  exchange  insure  lt& 
marketability? 

*7.  Your  investment  banking  firm,  let  us  say,  floats  issues 
from  time  to  time.  Why  is  the  question  of  providing  a  market 
for  these  securities  worth  serious  consideration?  What  arrange- 
ments will  you  make? 

8.  Specify  certain  stocks  which,  in  proportion  to  their 
average  prices,  undergo  wide  swings?  Certain  stocks  which 
vary  little  in  proportion  to  their  price? 

*9.  Is  it  better  to  give  orders  "at  the  Market"  or  specify 
the  prices? 

*10.  Is   the   significance   of   par   value   over-emphasized    or 
underemphasized  by  investors,  as  a  rule? 

11.  What  type  of  security  lends  itself  best  to  speculation? 
What  to  INVESTMENT? 

12.  WHAT  ARE  STOCKS?    WHY  DO  THEY  EXIST? 


ANSWERS  TO  STARRED  QUESTIONS 
"THE  ESSENTIAL  FEATURES  OF  SECURITIES" 

*3.  The  high  or  low  price  does  not  necessarily  in  itself  determine  that 
a  security  shall  fluctuate  widely  in  proportion  to  its  average  price.  But 
stocks  the  future  of  which  is  uncertain,  whose  basis  is  a  highly  speculative 
undertaking,  whose  directors  are  not  conservative,  etc.,  tend  to  sell  at  low 
figures  compared  to  stocks  where  contrary  conditions  prevail.  Due  to  these 
reasons,  low-priced  stocks  swing  more  widely  in  proportion  to  price  than  do 
high-priced  stocks. 

*5.  "We  refer  you  to  Blank  &  Co.,  of  74  Broadway,  New  York,  N.  Y. 
This  firm  will  supply  you  bid  and  asked  prices  on  Babcock  &  Wilcox,  and  we 
consider  their  service  as  specialists  in  this  stock  very  satisfactory  when  the 
limited  dealings  in  the  issue  are  taken  into  consideration." 

*7.  The  providing  of  a  market  for  these  flotations  aids  in  their  distri- 
bution because  marketability  represents  an  attractive  feature,  which  cus- 
tomers, and  prospective  buyers,  are  willing  to  pay  something  for.  When 
thinking  of  what  arrangements  you  might  make  in  order  to  secure  them  this 
marketability,  consider  the  various  exchanges  and  note  also  what  is  said  on 
Pages  22-25. 

*9.  Much  depends  here  upon  whether  one  is  an  investor,  who  can  wait 
for  weeks,  if  need  be,  until  his  specified  price  is  reached,  or  is  a  trader,  who 
wants  to  get  the  stock,  if  he  gets  it  at  all,  almost  immediately.  Orders  "at 
the  market"  have  the  distinct  advantage  that  they  are  filled,  whereas  those 
put  in  at  specified  prices  may  miss  the  market  by  a  fraction.  Much  also 
depends,  however,  upon  whether  the  market  is  wide  or  close.  Should  the 
market  be  wide  the  specified  prices  have  advantages,  since  an  order  "at  the 
market"  may  be  filled  at  a  price  several  points  away  from  that  expected. 

*10.  Over-emphasized,  as  a  rule.  Investors  are  swayed  far  more  than 
they  should  be  by  the  words  printed  on  the  certificate  "Par  value  $100"; 
these  words  constitute  no  guarantee  in  reality  that  equivalent  values  are 
behind  the  certificate.  The  four  Texts  which  follow  point  out  the  factors 
upon  which  the  value  of  a  security  does  depend. 


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